Looking for What Works at the Fed

The FOMC, the Fed’s policy makers, meet Tuesday and Wednesday this week. For investors the key agenda items are tapering and the future of QE3. Interest rate policy is almost forgotten as everyone prepares to scan the announcement expected at 2 PM Wednesday and then rush to either buy, or sell, bonds. Market pundits seem roughly split with a slight tilt towards expecting some cut back in bond buying and QE3.

Paul Krugman, in today’s New York Times, argues for continuing QE3 at its current level. His concern is that starting to wind down QE3 would be seen as a signal that there is little room for additional job growth and that efforts to create jobs and increase economic growth should be abandoned. Krugman acknowledges that there is a lot of uncertainty about how strong the economy is and how much room there is for more QE3 – he wants to err on the side of encouraging growth.

As we have been reminded in the fifth anniversary of financial crisis reviews, the US economy recently came through the worst, and most confusing, period since the Great Depression of the 1930s. Back then it was clear to Franklin Roosevelt and his economics team that there was a lot they didn’t know about the economy. Their approach was to try a lot of things in the hope that something would work and that the rest wouldn’t do much damage. Despite some 75 years of advances in economics, the Fed is still trying things to see what works. QE3 is one thing the Fed tried. While no one knows for sure if it works, the economy is better off than a year or two ago and most agree that low interest rates and easy credit deserve some credit for the gains. With interest rates up from last May, leaving QE3 fully in place a little longer would be reasonable.

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